It has been a decade since Stephen Schwarzman listed Blackstone, his private equity firm, on the New York Stock Exchange. By most measures, the past 10 years have been good to both Mr Schwarzman and Blackstone. Its asset base quadrupled to nearly $400bn. His name adorns the New York Public Library's landmark Fifth Avenue building after a $100m donation. And he has emerged as an informal, if influential, adviser to President Donald Trump.
But a part of him remains unsatisfied. Whatever else he and his firm have achieved, Blackstone's share price remains little changed from the day it began trading — a reality that he laments loudly and frequently. In April, he invoked the spectre of Benjamin Graham and David Dodd, the fathers of value investing, to highlight what he sees as the market's misunderstanding of his company's value.
Irritated by Blackstone's modest earnings multiple, Mr Schwarzman vented in April that his firm had "faster revenue and earnings growth [than the broader market], and a much higher [dividend] payout. Go figure. I don't think they teach that in Graham and Dodd. As most of you know, I've been racking my brain to make sense of this disconnect."
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His grievances echo across the listed alternative investment managers, including his rivals Apollo, Carlyle, and KKR, which also trade at sharp discounts to conventional money managers. Yet, as one competitor said: "The biggest valuation problem for our sector is that Steve keeps complaining about his stock price."
Mr Schwarzman's worries are unlikely to generate much sympathy. His 20 per cent stake in Blackstone is worth $8bn and generated $425m of dividends and profit-sharing for him in 2016 alone. The firm has forged close relationships with controversial actors, including the Saudi Arabian government, which is partially funding a new Blackstone US infrastructure initiative, as well as opaque Chinese dealmakers such as Anbang Insurance Group that routinely pay top dollar for Blackstone assets. Mr Schwarzman has also been at the centre of the controversy about the preferential tax treatment that private equity funds receive.
Lost in the debate, however, is the extent to which private equity and broader "alternative" investments — corporate buyouts, real estate, credit, venture capital — have triumphed in the past 10 years. Alternative assets are the venues where sovereign wealth funds, pension plans, endowments and the ultra-wealthy have found outsized gains even as interest rates have hovered near zero. And in this new world of investing, Blackstone is the undisputed winner. What began in 1985 as a shaky start-up has been transformed into a seemingly unstoppable fee machine.
Blackstone priced its initial public offering on June 21, 2007 at $31 per share. One market veteran noted the ironic timing: Blackstone's debut was the same day that two Bear Stearns hedge funds stuffed with mortgage-backed securities neared collapse — an event considered as the starting gun for the global financial crisis.
With the Blackstone IPO, ordinary investors had the chance to get a slice of the volatile but potentially massive incentive fees known as "carried interest" that firms like Blackstone rake in. Alternative managers typically charge 1-2 per cent to "limited partners", simply for finding and making deals. But the wealth creation opportunity came from the 20 per cent of gains that managers kept for themselves.
As markets plummeted in early 2009, Blackstone shares dropped to below $4. This frustrated Mr Schwarzman and his employees, who knew that institutions that had invested money into Blackstone funds had commitments locked up for a decade or so. Blackstone's balance sheet was also healthy. "You'd wake up every morning and see Merrill Lynch or Citigroup down another $3bn or $4bn. But as the storm lashed, you realised you were in an unusually safe haven. I remember feeling like a lucky guy," says one longtime employee.
Still, its portfolio was shaken. It had made two massive property bets at the height of the bubble in 2007. First was the $36bn acquisition of commercial property group Equity Office Properties. Its losses were minimised when Blackstone quickly sold off its less attractive buildings for peak prices.
More problematic was the $6bn it put towards the $26bn leveraged buyout of Hilton Hotels. Blackstone infused Hilton with more cash while strong-arming lenders into taking haircuts on their debt positions. At the same time, Hilton revitalised its properties and changed its strategy from owning locations to emphasising licensing revenues.
Hilton eventually listed its shares in 2013; Blackstone, which retains a 10 per cent stake, has tripled its money. At the same time, the real estate investing businesses at Goldman Sachs and Morgan Stanley effectively collapsed during the financial crisis.
Blackstone, with more than $100bn in assets devoted to property, is now the world's largest property investor. Jonathan Gray, the group's head, is widely expected to eventually ascend to the top at the firm.
"Hilton could have sunk two of their funds. But the turnround Blackstone executed there in 2011 and 2012 simply cannot be done in the public markets. It shows the advantage of having locked-up capital," says a rival.
Blackstone's two largest segments, corporate buyouts and real estate, have invested $171bn since 1988 and generated average annualised returns of roughly 15 per cent, net of fees.
Company executives reject the idea that their business is fuelled by exploiting companies by loading them up with cheap debt financing. They repeatedly cite the idea of "operational interventions" — meaning that they can take the time to re-adjust strategies and create savings across portfolio companies.
"The perception of buyouts is that it's all financial engineering," says Joseph Baratta, head of the private equity group. "The reality is much different. We're not arbitraging things. We're buying a company to own it for as much as 15 years. We're having to live with that business and make it better."
In 2015, Calpers, the bellwether California state employee pension fund, shocked the industry when it announced it would slash the number of private equity firms it allocated money to from more than 300 to around 100. It said it had paid more than $3.4bn in performance fees to managers since 1990, and it believed it could lower and simplify what they were charged. (Blackstone and several private equity firms have been sanctioned by the Securities and Exchange Commission for improper fee practices).
However, this shift has been good for the largest firms. "The big capital providers are writing bigger cheques to fewer firms. Only the bigger firms can take $500m or $1bn at a time, accelerating the winner-take-all mentality," says Kevin Albert, a partner at Pantheon, a firm that invests in private equity managers.
To appeal to different institutional investors, Blackstone has created new products with different fees or holding periods as well ones that can go beyond buyouts. In 2012, the firm became bullish on US oil transport. It went on to make three creative investments — a capital relief trade with a bank, a purchase of nine tankers and a joint venture — to capitalise on its assessment. Such land-grabs, even by experienced hands, can flop. The Carlyle Group, which had built its reputation in corporate buyouts, collected several hedge funds only to effectively ditch the business in 2016.
Blackstone president Tony James attributes its expansion to the benefits of scale and the firm's culture. "We can be early innovators because we can afford the R&D needed do things that perpetuate our advantages in intellectual capital. The other thing special about Blackstone is our commitment to non-hierarchical robust debate."
While Blackstone has steadily earned about $2.5bn annually in management fees, its carried interest can vary wildly. In 2014, with 2,000 employees, it recorded $4.4bn in performance fees. A year later that figure dropped by 60 per cent. In 2015, the strong gains the previous year led to a total dividend of nearly $3 per share, but last year it only paid out $1.66.
The consequence of that turbulence is that stock investors have put little value on future performance fees. Blackstone and its peers trade at around 10 times earnings. Analysts note that traditional asset managers like BlackRock, whose earnings are almost exclusively management fees, trade at 20 times future earnings. If the alternative firm's own steady management fee stream garners a similar weight of 20 times, then their future performance fees, however erratic, are free of charge.
In 10 years, Blackstone has paid more than $15bn in dividends. If its dividend had been reinvested in company shares, its annualised return since 2007 of roughly 7 per cent is in line with the S&P 500. Mr Schwarzman has mused that Blackstone shares could be worth $100, three times their current level, suggesting a market value of more than $100bn. In contrast, BlackRock, the largest listed traditional asset manager with $5tn under management, has a market value of $70bn. In 2014, Blackstone's net income of $4.4bn was one-third higher than BlackRock's. Noting the rivalry between Mr Schwarzman and BlackRock's Larry Fink — BlackRock began as a unit of Blackstone in 1988 — one colleague of Mr Schwarzman says: "In those periods when Blackstone beat BlackRock, Steve had this smirk on his face that was difficult to remove."
When Blackstone was preparing for its IPO, it warned that private equity was not a business for everyone, noting in its prospectus that it was not an "appropriate investment for investors with a short-term focus".
"Public markets are very short-term oriented in terms of what sets the screen price on a given day. But I think over the long term we feel pretty good that we're going to win and our investors will win," said Michael Chae, the finance chief and long-time member of the firm.
The fate of its fellow class of IPOs from 2007 serves as another warning. Fortress Investment Group once saw its shares once trade above $30 per share, but this year it was acquired by SoftBank for $8 per share. Och-Ziff listed its shares at $32. Today it limps along at $3 per share, battered by a brutal reckoning for all hedge funds as well as a massive bribery scandal in Africa.
"Alternatives are an illiquid, inefficient market. The bigger you get, the more access you have to the advantages of information and capital. Blackstone does not need top-decile returns. But if they stumble they will get one pass but not two," says an executive at a rival firm.
Mr Schwarzman has never sold any of his shares since the IPO. He did, however, sell $700m worth at the time of the listing, when Blackstone's valuation multiple was approaching 30 times. As he is fond of reminding people, it is only trading at 12 times today — meaning it has some way to climb before Mr Schwarzman finally feels satisfied.